Written by: Cindy Smith CPA, CFE
Supreme Court South Dakota v. Wayfair Decision
In June of this year, the Supreme Court ruled in the case of South Dakota v. Wayfair, Inc. that states may require out-of-state businesses to collect sales tax from customers if they have “substantial nexus” with the taxing state, even if they do not have a physical presence in the state. The case involved South Dakota's imposition of sales tax collection and remittance duties on out-of-state sellers meeting certain gross sales and transaction volume thresholds. The Court held that the State (South Dakota) established the vendor (Wayfair) had substantial nexus through "extensive virtual presence." With the rise of the digital economy, states have lost significant sales tax revenues because they have been unable to tax online/internet sales under the old physical presence nexus standards. Overturning its prior precedents, the Court held that the prior physical presence rule was an "unsound and incorrect" interpretation of the Commerce Clause that has created unfair and unjust marketplace distortions favoring remote sellers and causing states to lose out on enormous amounts of tax revenue. This ruling not only affects large retailers such as Wayfair, but it also applies to online retail stores such as Amazon, Ebay, Etsy, and Shopify. In addition, it can apply to businesses who sell out-of-state via mail or telephone orders. It is important to note the Supreme Court decision does not affect state income tax nexus, it only affects state sales tax nexus.
According to South Dakota laws, an out-of-state business has to pay South Dakota sales tax if it meets the economic threshold of 200 taxable sales in a calendar year to South Dakota customers or $100,000 in annual gross income from customers in the state. Several other states have passed similar requirements and others are in the process of changing their laws to impose sales tax on out-of-state sales. However, the Supreme Court did not legitimize any one federal standard for the collection or remittance of sales tax, which means not every state is using the same economic thresholds or rules as South Dakota. This is creating compliance headaches for many retailers since they will need to know each state’s sales tax laws and stay current with any changes to those laws.
In light of the Supreme Court decision, it is important for businesses who have sales out-of-state to do some analysis regarding those states. The first step would be to determine the dollar amount and number of sales transactions you have in each state. The second step would be to research those state’s laws to see if you may be liable for sales tax. You can find most information on the state’s websites or via a telephone call to the state’s sales tax division. You will want to pay particular attention to their laws regarding their thresholds for sales tax liability (i.e. the number of transactions and dollar amount of sales), their implementation and compliance dates, which items (and sometimes services) are taxable, the tax rates, the registration requirements, the reporting requirements, and whether those states are offering amnesty for late registration or filing.
The federal ruling and the ever-changing state requirements may be a considerable burden for many businesses, especially if they have sales in numerous states or act as third-party sellers for companies such as Amazon. As a result, some are calling for a sweeping federal law regarding internet sales to reduce the burden on businesses, however, no one is anticipating the federal government will address it and especially not soon. Some members of Congress recently introduced the “Stop Taxing Our Potential Act of 2018” (S. 3180) to prohibit states from imposing a tax collection obligation on any business unless it had a physical presence in the state, but it could be months or years before any action is taken on the bill. In addition, the House Judiciary Committee met in July of this year to examine the Wayfair decision and its impact and ramifications for small businesses and consumers, however, nothing was decided during the hearing.
So what is a business owner to do? Some business owners are taking a “wait and see” approach before taking any action, since some believe laws will be changed to reduce the sales tax burden on businesses. However, it would be wise to comply with current state sales tax laws since any major sales tax law changes could take years, or may never even occur. In addition, by not complying with state laws, the financial liability of uncollected sales taxes, as well as penalties and interest, could be substantial for non-compliance.
If you have any questions or would like to discuss these issues further, please contact our office and discuss it with your tax preparer.